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Winners and losers
Apr 26th 2001
From The Economist print edition

The global distribution of income is becoming ever more unequal. That should be a matter of greater concern than it is, argues Robert Wade

ANYBODY interested in the wealth and poverty of nations must be interested in what is happening to the global distribution of income, one would suppose. A lot turns on the question. If the world’s income distribution has become more equal in the past few decades, this would be powerful evidence that globalisation works to the benefit of all. It would give developing countries good reason to integrate their economies closely into the world economy, as the IMF and the World Bank—and their mostly rich-country shareholders—urge them to do. It would answer some of the fears of the anti-globalisation protesters. And it would help to settle a crucial and long-standing disagreement in economic theory, between the orthodox view that economic growth naturally delivers “convergence” of rich and poor countries, and alternative theories which, for one reason or another, say the opposite.

Despite its importance, this issue has received rather little attention within the fields of development studies, international relations and (until very recently) international economics. Neither the World Bank nor the IMF has devoted significant resources to studying it. Many analysts apparently take it for granted that global inequality is falling. Others think it sufficient to focus on poverty, and ignore inequality as such. Both these views need to be challenged. New evidence suggests that global inequality is worsening rapidly. There are good reasons to worry about that trend, quite apart from what it implies about the extent of world poverty.

Distributing the spoils

What exactly does “world income distribution” mean? This article is concerned with distribution among the planet’s 6.2 billion people, regardless of country or region. World income distribution can be thought of as the combination of (a) the internal income distributions for all the countries and (b) the distribution of average incomes across countries. Most of the inequality in world incomes reflects inequality in country averages rather than inequality within countries.

Chart 1 shows the distribution of the world’s population by average income of each country (using compatible data from 1993, the most recent year available). Income is measured in terms of purchasing power over comparable bundles of goods and services, or purchasing-power parity (PPP), rather than in terms of actual exchange rates. China and India, with between them almost 40% of world population, are each divided into urban and rural sectors and treated as four separate countries.

The distribution has two poles. One, at the bottom end, is at an average income of less than $1,500 a year. It contains the populations of most of Africa, India, Indonesia and rural China. At the other pole, with average PPP incomes of more than $11,500, are the United States, Japan, Germany, France, Britain and Italy. Some of the space between $1,500 and $11,500 is occupied by countries such as urban China, Russia and Mexico. But notice the strange “missing middle”: relatively few people live in countries with average PPP incomes that fall between $5,000 and $11,500. If incomes were measured using actual exchange rates, the range from poorest to richest would be much larger.

Nobody denies that world income distribution became vastly more unequal after the industrial revolution. On this timescale divergence dominates, big time. But what happened in the past three or four decades?

Having ignored world income distribution for decades, international economics has lately seen a burst of interest. But the statistical difficulties are so formidable that the debate has so far revolved around questions of econometric technique. Standing back from the fray, we can see that much of the controversy concerns how to compare income in different countries.

The answer to what is happening to world income distribution turns out to depend heavily on whether countries are weighted by population, and whether income in different countries is measured in PPP terms or by using actual exchange rates. These two criteria can be set out in a matrix of four cells, with countries treated equally or weighted by population on one axis, and income measured in current exchange rates or in PPP terms on the other. Table 2 summarises the findings of the existing literature, dividing the studies among the four cells.

If countries are treated equally (not weighted by population) and average income is measured in PPP terms, most studies find that world income distribution has become more unequal in the past few decades. If countries are weighted by their populations (so that China’s change in average income counts for many times more than Uganda’s), the world’s PPP income distribution over recent decades shows little change.

It may seem obvious that one should weight countries by population, giving every individual in the world equal weight. For some purposes, though, it may make sense to weight countries equally. To test the growth theories mentioned earlier, or to assess the effectiveness of policy advice on how to raise growth rates, one can treat each country as a laboratory trial—an observation of a set of policies, institutions and resources—and take the average over all the trials. Likewise in the context of understanding co-operation in multilateral organisations such as the United Nations, where small-population states have more of a voice than their share of world population would warrant, it may make sense to look at world income distribution with countries weighted equally.

What about the second measurement issue: actual exchange rates or PPP? When incomes in different countries are compared using actual exchange rates, the evidence shows that world income distribution has become much more unequal over the past several decades, and that inequality accelerated during the 1980s, whether countries are treated equally or weighted by population. When incomes are compared using PPP calculations, the degree of inequality shrinks, and so does the rate of widening.

Many assume that PPP measures are always superior. Certainly the exchange rate is a flawed measure of purchasing power: it fails to reflect the large amount of non-monetary exchange in developing countries, or money payment for services that are not subject to international competition. Also, exchange rates are much affected by capital flows and by monetary policy.

But PPP measures have their drawbacks as well. Different methods of measuring purchasing-power parity, all plausible in themselves, yield different results. Comprehensive estimates of PPP incomes for developing countries, based on actual data on prices of comparable goods and services, go back only to the 1970s. This makes longer-run analysis difficult. Finally, incomes based on actual exchange rates may be a better measure than PPP of relative national power and national modernity—matters of more interest to sociologists and political scientists, no doubt, than to economists.

In any event, the bulk of the evidence on trends in world income distribution runs against the claim that world income inequality has fallen sharply in the past half-century and still faster in the past quarter-century. None of the four cells in the table supports this idea.

From poorer to richer

So much for the existing research. However, we can now go further. Two very recent studies based on new data challenge the finding in the fourth cell that world PPP-income distribution weighted by countries’ population shows little change over the past few decades. The new studies show, on the contrary, a rapid rise in inequality.

These new studies differ from the others in being based solely on household income and expenditure surveys. The earlier ones either used average GDP, ignoring inequality within each country, or used indirect methods to estimate within-country inequality, including production surveys and revenue surveys, which typically miss important components of household incomes. Branko Milanovic at the World Bank assembled the database, using the Bank’s formidable statistical organisation to obtain household survey data from just about all the Bank’s members, covering 85% of the world’s population, for the years 1988 and 1993. The result is probably the most reliable data set on world income distribution.

Then Mr Milanovic computed the Gini coefficient for world income distribution, combining within-country inequality and between-country inequality, and measuring it in PPP terms. (The Gini coefficient is a commonly used measure of inequality: 0 signifies perfect equality, 100 means that one person holds all the income.) The results are startling. World inequality increased from a Gini coefficient of 62.5 in 1988 to 66.0 in 1993. This is a faster rate of increase of inequality than that experienced within the United States and Britain during the 1980s. By 1993 an American on the average income of the poorest 10% of the population was better off than two-thirds of the world’s people.

The other new study, by Yuri Dikhanov and Michael Ward, uses the same data set with a different methodology. It confirms that world income distribution became markedly more unequal between 1988 and 1993. Like the Milanovic study, it finds that the Gini coefficient increased by about 6%. It finds, further, that the share of world income going to the poorest 10% of the world’s population fell by over a quarter, whereas the share of the richest 10% rose by 8%. The richest 10% pulled away from the median, while the poorest 10% fell away from the median, falling absolutely by a large amount. In short, we have to revise cell 4. World PPP income distribution with countries weighted by population (and China and India split into urban and rural) became “much more unequal” between 1988 and 1993 (see table 3).

Why has global inequality increased? The answer is in four parts: (1) faster economic growth in developed OECD countries than developing countries as a group; (2) faster population growth in developing countries than in OECD countries; (3) slow growth of output in rural China, rural India, and Africa; and (4) rapidly widening output and income differences between urban China on the one hand, and rural China and rural India on the other. The income of urban China grew very fast during 1988-93, which reduced the gap between China’s average income and that of the middle-income and rich countries, and so reduced the world Gini coefficient; but the widening gaps between rural China and urban China and between urban China and rural India increased world inequality by even more.

These trends in turn have deeper causes. Technological change and financial liberalisation result in a disproportionately fast increase in the number of households at the extreme rich end, without shrinking the distribution at the poor end. Population growth, meanwhile, adds disproportionately to numbers at the poor end. These deep causes yield an important intermediate cause that makes things worse: the prices of industrial goods and services exported from high-income countries are increasing faster than the prices of goods and services exported by low-income countries, and much faster than the prices of goods and services produced in low-income countries that do little international trade.

These price trends mean that the majority of the population of poor countries are able to buy fewer and fewer of the goods and services that enter into the consumption patterns of rich-country populations. The poorer countries and the poorer two-thirds of the world’s population therefore suffer a double marginalisation: once through incomes, again through prices. Hence the figures in table 3, which show that the gap between the richest 10% of the world’s population and the median is widening, and the gap between the median and the poorest 10% is also widening.

Polarised zones

Income divergence helps to explain another kind of polarisation taking place in the world system, between a zone of peace and a zone of turmoil. The regions of the wealthy pole in chart 1 show a strengthening republican order of economic growth and liberal tolerance (except towards immigrants), with technological innovation able to substitute for depleting natural capital. The regions of the lower- and middle-income pole contain many states whose capacity to govern is stagnant or eroding, mainly in Africa, the Middle East, Central Asia, Russia, and parts of East Asia. Here, a rising proportion of people find their access to basic necessities restricted at the same time as they see people on television driving Mercedes cars.

The result is a lot of unemployed and angry young people, to whom new information technologies have given the means to threaten the stability of the societies they live in and even to threaten social stability in countries of the wealthy zone. Economic growth in these countries often depletes natural capital and therefore future potential. More and more people see migration to the wealthy zone as their only salvation.

It is remarkable how unconcerned the World Bank, the IMF and other global organisations are about these trends. The Bank’s World Development Report for 2000 even said that rising income inequality “should not be seen as negative” if the incomes at the bottom do not fall and the number of people in poverty falls. Such lack of attention shows that to call these world organisations is misleading. They may be world bodies in the sense that almost all states are members, but they think in state-centric rather than global ways. They neglect not only matters of world income distribution, but also world inflation, world exchange rates, and world interest rates; and, in the case of the World Bank, the global environmental issues of the oceans, the atmosphere, and nuclear waste.

It is striking that most of the organised opposition to more globalisation comes from North America, Western Europe and Oceania. Why have elites from developing countries for the most part subscribed to the globalisation agenda that western states, businesses, and multilateral organisations have been promoting, if a case can be made that the gains of free markets for goods and capital tend to be concentrated in the top levels of the income distributions of their countries? Why are they doing so little to integrate their economies into the world economy in a strategic way, not open-endedly?

Part of the reason may be that elites in developing countries, like their counterparts in the rich world, are content to believe either that world inequality is falling, or that inequality is good because it is the source of incentives. They, like the multilateral economic organisations (and the reformers of Victorian England), worry about poverty. But they see no link between widening world income distribution and poverty; and they think that poverty can be fixed by providing the poor with welfare and opportunities without changing larger structures like income and asset distributions. Academic analysts have a responsibility to counter the current neglect by analysing the relationship between trends in world income distribution and poverty as a way of getting distribution issues on to the world agenda.

Growing inequality is analogous to global warming. Its effects are diffuse and long-term, and there is always something more pressing to deal with. The question is how much more unequal world income distribution can become before the resulting political instabilities and flows of migrants reach the point of directly harming the well-being of the citizens of the rich world and the stability of their states. Before that point is reached we should mobilise our governments, the multilateral organisations, and international NGOs to establish as an overarching priority a more equal world income distribution—and not just, as now, fewer people in poverty.

Robert Wade is professor of political economy at the London School of Economics and a temporary fellow at the Wissenschaftskolleg in Berlin. He is the author of “Governing the Market”, a study of economic development in East Asia

The author would like to thank Michael Ward and Branko Milanovic for discussions about income distribution. This week’s Economics focus comments on this article